As we look forward to better economic growth, investors are regaining their risk appetite. Consequently, small- and micro-capitalization stocks and exchange traded funds are gaining momentum.
Small and microcap stocks, which have market capitalizations of about $50 million to $300 million, are the most volatile market segment and generate a larger portion of their revenues from within the U.S., writes Max Isaacman for Minyanville.
Additionally, small-cap companies are largely in the crosshairs of potential corporate buyouts, which will likely increase as the economy improves.
Typically, during the initial stages of a bull market rally, the more nimble small capitalization stocks are able to quickly ride the wave upward.
However, on the downside, small-cap companies tend to get hit the hardest during financially tight periods, such as the 2008 financial crisis when it was particularly difficult to access free capital.
Micro-cap ETFs have been outperforming the S&P 500. For instance, the Guggenheim Wilshire Micro-Cap ETF (NYSEArca: WMCR) gained 10.2% over the past three months and the PowerShares Zacks Micro Cap Portfolio (NYSEArca: PZI) is 11.7% higher, compared to the 6.5% rise in the S&P 500 over the same period.
WMCR holds about 800 components and no single company makes up more than 1.1% of the overall assets. Financial sector stocks make up 26% of the fund, followed by 23% in health care, and 18% in technology.
PZI follows the Zacks Micro Cap Index, which identifies micro-cap stocks with the highest potential to outperform passive benchmark of micro-cap indices and other micro-cap strategies.
While ETFs allow investors diversify across the micro-cap space, the underlying micro-cap market faces some liquidity concerns.
“The ETF’s portfolio churn means it loses lots of money to market-impact costs and bid-ask spreads,” Morningstar analyst Samuel Lee warned of PZI.
Some small-cap ETFs include:
- iShares Russell 2000 (NYSEArca: IWM)
- iShares Core S&P Small-Cap ETF(NYSEArca: IJR)
- Vanguard Small Cap ETF (NYSEArca: VB)
For more information on small capitalization funds, visit our small-cap category.
Max Chen contributed to this article.
Full disclosure: Tom Lydon’s clients own IWM.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Mr. Lydon serves as an independent trustee of certain mutual funds and ETFs that are managed by Guggenheim Investments; however, any opinions or forecasts expressed herein are solely those of Mr. Lydon and not those of Guggenheim Funds, Guggenheim Investments, Guggenheim Specialized Products, LLC or any of their affiliates. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.